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Business Court Ruling Expands Fiduciary Duties of LLC Members

A recent ruling from the Davidson County, Tennessee Business Court in a breach of fiduciary duty case has expanded the scope of fiduciary duties owed by LLC members to other LLC members.  Under Tennessee law, it is, and has been for many years, well-established that shareholders in corporations and partners in partnerships owe fiduciary duties to each other, and not just to the corporation or partnership.

Whether LLC members even owe other members fiduciary duties, and, if so, what fiduciary duties LLC members owe to one another have been unclear.  The Business Court’s recent opinion has helped to clarify the matter of the duties owed by LLC members to other LLC members.

Limited liability companies, a form of business entity which is, relatively speaking, fairly new, are designed to incorporate the best features of corporations and partnerships.  Tennessee has a comprehensive set of laws regarding LLCs which are found in the Tennessee Revised Limited Liability Company Act (the “Act”), T.C.A. §48-249-101.

Section 48-249-403 of the Act deals with the fiduciary duties of LLC members and managers, and limits the fiduciary duties of LLC members and managers.  Moreover, some Tennessee case law, which was decided before the enactment of the Revised Tennessee LLC Act, held that LLC members did not owe each other fiduciary duties.

The facts in the case before the Business Court, Ewing v. Miller, were that a minority LLC member was removed by a vote of other LLC members for allegedly breaching non-competition provisions in the operating agreements of the LLCs involved (there were several).  The defendants filed a motion to dismiss the breach of fiduciary duty claims on the grounds that members of member-managed Tennessee LLCs owed no fiduciary duties to other members.

The Business Court denied the motion to dismiss.  The Business Court found that Tennessee law did permit LLC members to hold other LLC members liable for breach of fiduciary duty in certain circumstances. In the case before it, the Business Court found that the other LLC members who had voted the plaintiff out were a “control group.”  The Business Court noted that the “control group” theory of liability for breach of fiduciary duty protected minority shareholders in corporations, and, by extension, should be available to minority LLC members.

In reaching its decision that a control group of LLC members in a member-managed LLC can owe fiduciary duties to other members, the Business Court relied heavily on a 2003 decision of the Court of Appeals of Tennessee, Anderson v. Wilder.

In the Anderson v. Wilder case, the operating agreement of the LLC in question allowed a majority of the LLC’s members to expel other members.  It required that the expelled members be paid for their membership interests according to a formula in the operating agreement.

In the Anderson case, the majority members expelled the minority members.  The minority members were paid $150 per unit of ownership interest according to the formula in the operating agreement.  Then, about one month later, the majority sold the minority’s shares for $250 per unit to a buyer with whom they had been negotiating prior to the expulsion.

Not only did the Court of Appeals in the Anderson case hold that the majority members owed the minority fiduciary duties under the circumstances, but also, a jury subsequently awarded the minority members damages.

Tennessee lawyers who handle breach of fiduciary duty cases for LLC members should welcome the Business Court’s recent decision in the Ewing case.  There is no reason that LLC members should not owe the same fiduciary duties to other members that shareholders owe to other shareholders and that partners owe to other partners.  It is too bad that wording in the Revised Act, and in its predecessor, has left open the possibility of arguing that LLC members do not owe fiduciary duties to each other.  The good news is that, if you look at the progression of the case law and decisions, Tennessee law is moving in the right and fair direction.